What Are Section 199A Dividends?
Section 199A dividends are REIT dividends that are listed in Box 5 of Form 1099-DIV. They should be included on a taxpayer’s federal tax return. Generally, REIT dividends create a taxpayer-favorable federal income tax deduction. Dividends paid out by real estate investment trusts (REITs) or funds holding REITs are referred to as Section 199A dividends. In essence, Section 199A dividends are like regular dividends. For instance, they take a portion of a company’s equity and redistribute it to shareholders.
The distribution is based on the number of shares the individual owns. However, Section 199A dividends are only paid out by REITs and funds that hold REITs. For tax purposes, REITs are a special type of business that predominantly hold real estate. In exchange for paying 90 plus percent of its income out to investors as dividends, the REIT itself does not pay federal corporate income taxes. Moreover, the dividends a REIT pays are eligible to receive special tax treatment.
Who Pays Section 199A Dividends?
Real estate investment trusts (“REITs”) pay Section 199A dividends. REITs are a special type of business entity almost entirely comprised of real estate holdings. For example, REITs can own office buildings, hotels, hospitals, shopping malls, and apartment buildings. Investors can own stock in a REIT, REIT mutual funds, or ETFs that are partially or entirely comprised of REIT stock. Dividends paid out by real estate investment trusts (REITs) or funds holding REITs are referred to as Section 199A dividends. Section 199A dividends, like regular dividends, take a portion of a company’s equity and redistribute it to shareholders based on the number of shares they own. However, Section 199A dividends paid out by REITs receive special tax treatment.
What are REITs?
A real estate investment trust (REIT) is a company that owns and typically operates income-producing real estate or related assets. Office buildings, shopping malls, apartments, hotels, resorts, self-storage facilities, warehouses, and mortgages or loans are examples. A REIT, unlike other real estate companies, does not develop real estate properties for the purpose of reselling them. Instead, a REIT buys and develops properties primarily for the purpose of operating them as part of its own investment portfolio. Individuals can invest in large-scale, income-producing real estate through real estate investment trusts (“REITs”).
In turn, individual investors can earn a share of the income generated by commercial real estate ownership through REITs. Yet, they aren’t actually required to purchase or manage commercial properties. Furthermore, REITs benefit from tax advantages. The REIT does not pay federal corporate income taxes in exchange for paying out more than 90% of its income to investors as dividends. As a result, REITs frequently pay higher dividends than companies in other industries. The REIT’s dividends are classified as Section 199A dividends.
Section 199A Dividends as Qualified Business Income (QBI) Deductions
For tax years beginning after December 31, 2017, many owners of sole proprietorships, partnerships, S corporations, and some trusts and estates may be eligible for a qualified business income (QBI) deduction. This is also known as Section 199A Deduction. The deduction allows eligible taxpayers to deduct up to 20% of their QBI, plus 20% of qualified real estate investment trust (REIT) dividends and 20% of qualified publicly traded partnership (PTP) income. The deduction is not available for income earned through a C corporation or as an employee.
Many owners of sole proprietorships, partnerships, S corporations and some trusts and estates may be eligible for a qualified business income (QBI) deduction – also called Section 199A – for tax years beginning after December 31, 2017. The deduction allows eligible taxpayers to deduct up to 20 percent of their qualified business income (QBI), plus 20 percent of qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income. Income earned through a C corporation or by providing services as an employee is not eligible for the deduction. (Source: irs.gov)
IRS Guidance on Section 199A Dividends
The Internal Revenue Service issued final regulations permitting a regulated investment company (RIC) that receives qualified real estate investment trust (REIT) dividends to report dividends the RIC pays to its shareholders as section 199A dividends. Section 199A, enacted as part of the Tax Cuts and Jobs Act (TCJA), allows individual taxpayers and certain trusts and estates to deduct up to 20 percent of certain income (section 199A deduction).
Qualified business income (QBI) is eligible for the section 199A deduction. Furthermore, QBI applies to qualified trades or businesses operated as sole proprietorships, partnerships, S corporations, trusts, or estates, as well as qualified REIT dividends and income from publicly traded partnerships. However, C corporations are not eligible for the section 199A deduction. The regulations provide that, subject to certain limitations, a shareholder in a RIC may treat a section 199A dividend received from a RIC as a qualified REIT dividend for purposes of calculating the section 199A deduction. Additionally, the regulations provide additional guidance on the treatment of previously disallowed losses that are included in QBI in subsequent years, as well as guidance for taxpayers who own interests in split-interest trusts or charitable remainder trusts.
The section 199A deduction is available to eligible taxpayers with qualified business income (QBI) from qualified trades or businesses operated as sole proprietorships or through partnerships, S corporations, trusts, or estates, as well as for qualified REIT dividends and income from publicly traded partnerships. The section 199A deduction is not available for C corporations. The regulations provide that a shareholder in a RIC may, subject to limitations, treat a section 199A dividend received from a RIC as a qualified REIT dividend for purposes of determining the section 199A deduction. Also, the regulations provide additional guidance on the treatment of previously disallowed losses that are included in QBI in subsequent years and provide guidance for taxpayers who hold interests in split-interest trusts or charitable remainder trusts. (Source: irs.gov)
What are the Tax Benefits of Section 199A Dividends?
A Section 199A dividend qualifies for the Section 199A qualified business income deduction. This is also referred to as the QBI deduction. The qualified business income deduction is a 20 percent federal income tax deduction.
Example
Here is an example of how the tax deduction works for Section 199A dividends.
Daytradrr owns shares of EPIC REIT Mutual Fund. At year-end, the mutual fund pays DayTradrr $10,000.00 in dividends. All qualify as Section 199A dividends and are reported in both Box 1a and Box 5 of Form 1099-DIV. As a result, DayTradrr gets a $2,000 qualified business income (QBI) deduction on its federal tax return (20 percent of $10,000.00) because of the $10,000.00 Section 199A dividend.
Eligibility
Individual taxpayers who meet the 46-day holding period requirement may be eligible for the 20% qualified business income deduction under Section 199A. These dividends are attributable to the fund’s qualified real estate investment trust (REIT) dividends and are reported in Box 5 of Form 1099-DIV.
To be eligible for deduction under Section 199A, a shareholder must have held shares on which the dividend was paid for at least 46 days during the 91-day period that began 45 days before the fund’s ex-dividend date (ex-date). The ex-date is the date on which the dividend is deducted from the funds per share net asset value. For purposes of the holding period, you may not count the day on which the shares were purchased or acquired by reinvesting dividends, but you may count the day the shares were sold. (Source: capitalgroup.com)
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